This Stragetic Deal Could Enhance the Value of Mini-Berkshire

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Recently, Markel Corporation (NYSE: MKL), which has long been considered the mini-Berkshire Hathaway, announced a big acquisition. Markel said that it would acquire Alterra Capital Holdings (NASDAQ: ALTE) for around $3.13 billion. Markel would pay Alterra’s investors $10 per share in cash and 0.4315 Markel’s shares per Alterra’s shares. The price tag of $3.13 billion would value Alterra at around $31 per share. After the deal, Markel will own 69% of the combined company, and Alterra would own the remaining 31%. Should investors be excited about the news? Are Alterra and/or Markel a buy after the deal?

Profitable P&C Insurer

Alterra, incorporated in Bermuda, is the diversified specialty insurance and reinsurance providers, with operations in the US, Europe, and Latin America. In 2011, the majority of its gross premium derived from the Reinsurance business, worth $869.7 million, accounting for 45.7% of the total gross premium written. The second highest premium source was insurance, accounting for 21.5%. In terms of geography, the main property and casualty premiums were brought from North America operations, representing 73.8% of the total gross premiums written in 2011. In the last 5 years, Alterra has managed to consistently grow its premium earned, from $817.9 million in 2007 to $1.425 billion in 2011. 

However, the firm suffered losses of $175.3 million 2008, and in 2011 brought in net income of only $65.3 million. The negative loss in 2008 was due to the losses that the firm had to take from alternative investments. The low profits in 2011 were due to much higher net losses and loss expenses compared to 2010. The losses derived from significant property catastrophe events, including Australian floods, the New Zealand earthquake, the earthquake in Japan, Hurricane Irene, etc. In the last 3 years, Alterra reported to have consistently positive underwriting profits, with the combined ratio below 100%. In 2011, the consolidated combined ratio was 98.2%. Out of its 5 insurance lines, the Insurance Segment and Reinsurance Segment are generating significant underwriting profits, whereas the U.S Specialty Segment and Aterra at Lloyd’s Segment are generating underwriting losses, with 104.8% and 135.4% combined ratios in 2011, respectively.

Mini-Berkshire Potential Advantages

Markel is a specialty insurance product provider with three main segments: Excess and Surplus Lines; Specialty Admitted; and London Insurance Market. In fiscal 2011, the majority of premiums were from two sources: Excess and Surplus Lines, with nearly $893.5 million, and London Market Insurance, with $825.3 million in gross premium. In 2011, the reported combined ratio of Markel was 102%, higher than 2010's 97% and 2009's 95%. However, with the investment yield of 4% and taxable equivalent total investment return of 7%, 2011 is still a decent year for the company. 

After the acquisition, Markel’s business would have an equal division of short and long tail insurance premiums, along with the division of 67% insurance and 33% reinsurance.  Steven Markel, Vice Chairman of Markel, said:

The addition of Alterra's reinsurance and large account insurance portfolios will serve to diversify and strengthen Markel's current book of specialty insurance business. We look forward to welcoming Alterra's talented underwriting teams to Markel – with their help and the benefit of approximately $6 billion in combined shareholders' equity, we believe we will be well positioned to take advantage of a wide range of profitable opportunities.

With the current book value of $2.92 billion, the deal would value Alterra, the company with the $7.4 billion investment portfolio, at a bit higher than its book value. Markel is trading at $430 per share, with a total market capitalization of $4.14 billion. It had an investment portfolio valued at around $7.6 billion. The market is valuing Markel is 1.1x P/B. One of Markel's peers in the insurance business, CNA Financial Corp  (NYSE: CNA), had an investment portfolio of nearly $47.79 billion, with the majority was in fixed maturity securities ($42.3 billion), whereas the market capitalization was $7.78 billion. CNA is valued at only 60% of its book value and is paying its shareholders a dividend yield of 2.1%. 

My Foolish Take

The acquisition of the profitable P&C insurance company Alterra would give Markel a lot of competitive advantages in insurance, reinsurance, float and investing profits. Alterra and Markel could still be considered a long term insurance investment, especially when investors have a chance to buy at the lower price than the offering price.  

hoangquocanh has no positions in the stocks mentioned above. The Motley Fool owns shares of Markel. Motley Fool newsletter services recommend Markel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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